Local Content: Oil Services in Focus
Forum of oil and gas companies ”Oil and Gas: Kazakhstani content – 2013”, held in the middle of February in Astana loudly demonstrated the ambiguity of the current situation in oil and gas companies’ procurement of goods, works and services from the domestic suppliers.
On the one hand, the Ministry of Oil and Gas and the Ministry of Industry states a steady growth of Kazakhstani content in the oil and gas industry. On the other hand, they recognize that the process is often not a free market expression of the subsoil users’ will, but the result of a distinct legislative and administrative State’s pressure. The pressure which, either willing or not, should be released after accession of our country to the WTO. In this regard, no one attempts to predict what will be the volume of purchases from local suppliers in new conditions. Especially as the producers themselves take up the position that the current social opinion about low quality of Kazakhstan’s goods, works, and services is a myth, which is often artificially created by subsoil users.
More than one Cabinet tried to solve the challenge of increasing local content in the oil and gas sector, considering the oil sector as a “locomotive” of Kazakhstan’s economy. However, despite all efforts, this locomotive is not pulling all “car–related” industries, where local producers serving the needs of oil-industry workers could develop. After all, Kazakhstan has resorted to an administrative “motivation” of subsoil users which are financially liable for non-performance of contractual obligations on local content since 2010. The result was not slow to arrive – according to Kanatbek Safinov, Executive Secretary of the Ministry of Oil and Gas, in the past three years, the procurement of local goods, works and services has shot up – from 681 billion to 1.4 trillion KZT.
And still, we have to know that this is only a general figure. If we consider goods, works and services (GWS) separately, the most capital intensive factor of these three –Kazakhstani goods – by the end of 2012 has reached the milestone of 48 billion and it is only 12.2% of the total purchases of subsoil users in this category. That is almost 88% of goods still being imported from abroad. This is despite the fact that in 2012 the proportion of local works purchasing was 66.8%, or 817 billion KZT, while the services – 49%, or 549.5 billion. “These figures show that although we have not reached the limit, but have a certain shortage of a local content supply, particularly in goods”, said Mr. Safinov in his speech at the Forum. Moreover, if we analyze the nomenclature of goods delivered with the brand “made in Kazakhstan”, is not difficult to see that it is primarly referring to non-capital intensive products – pipes, fittings, valves and reinforced-concrete products.
However, the introduction of administrative levers by far did not affect all subsoil users equally: today there is a class of “outsiders” (and there are 19 companies) whose share of local content is 5% or less. “We will work very tightly with these companies to build relations”, Kanatbek Safinov promised.
And he immediately recalled the statutory right of the Ministry of Oil and Gas to impose penalties in case of non-performance of contractual obligations on Kazakhstani Content. The Ministry began to exercise this right in practice in 2011, 180 million KZT of fines have been charge by the end of the year, and that figure had almost doubled – up to 350 million KZT in 2012 that is direct evidence of widespread evasion of subsoil users from their contractual obligations. The vast majority of companies fined in 2011 (21 out of 25) have transferred the fines into the budget, not even attempting to put in issue with reference to the poor quality of local GWS. This is not surprising, since many of Kazakhstan’s producers generally dropped out not of the competition with foreign suppliers, but simply are not allowed to participate in tenders.
“This is especially true for our three major subsoil users – Karachaganak project, Tengizchevroil and Kashagan project. There are often tenders under special regulations take place, closed for our producers. I think it's time to change them. We understand that it is impermissible to admit companies that do not have corresponding international certificates to the major operations, especially offshore, but we still have a lot of infrastructure projects as well as yearly recurring operating expenses for maintenance of plants and other facilities. It is necessary to ensure maximum transparency for these types of expenditures. Probably, we need to switch to an electronic format, for there would be no complaints from manufacturers. So as they may know the clear rules, to participate in tenders, and not be rejected”, Mr. Safinov said.
However, sometimes subsoil users act illogically: first they help Kazakhstani plants to certify their products in accordance with international standards, and then they themselves refuse to place their orders in these certified facilities. In particular, such a situation was created in the relations between NCOС and Ust-Kamenogorsk valve plant. Another example is related to the NC KazMunayGas which promised to provide Kazneftegazmash with orders for several hundred million Tenge, and placed only the amount of 17 million. As a result, even major Kazakhstan plants possessing all necessary international certificates, complain that they cannot receive the order from the “whales” of oil and gas industry over the many years.
“The Ministry of Oil and Gas cannot resolve these conflict situations every time. There are general procurement rules, there are general rules of international standards, and we will apply the sanctions in turn. However, I believe that our major companies should lead the way in this direction”, the representative of the Ministry of Oil and Gas called upon them.
At the same time the Ministry recognizes that fines are not an effective tool for motivation of subsoil users. If for no other reason than because Kazakhstan endeavours enter into the WTO, where they will have to cease excessive administrative pressure on the market. And if the work on increasing Kazakhstani content will be held exclusively by legislative “stick”, after the entry into WTO, it will just collapse. Not at once, of course, because currently the Ministry of Oil and Gas is trying to achieve a period of transition for the Republic on a number of existing legislative rules.
“However, we believe that there are strict rules which need to be removed. Such rules as providing plants - goods producers with 20% billback allowance, will not apply over time”, Mr. Safinov said. In this regard, domestic suppliers should rethink working principles well in advance. “Subsoil users have fair claims with regard to underdeveloped logistics, late deliveries of goods, and poor quality of products. And here we must not hide behind 20% billback allowance, but make every effort to be competitive... We have achieved many successes in this direction, but there are still a number of difficult questions, which I hope we will discuss in this forum”, said the spokesman of the Ministry of Oil and Gas.
In turn, Nurlan Sauranbayev, a Vice-Minister of industry and new technologies of Kazakhstan, believes that the future of Kazakhstani content in implementation of the oil and gas projects is first of all, in the development of the service business. He estimates that about 50% of the expenditures of subsoil users spent on services and development of infrastructure, and this, even as of the early 2000's, is about $80 billion.
Explaining his position, the representative of the Ministry of Industry and New technologies referred to the analysis of the processes of development of large oil and gas projects. “It (the development – editor's note) goes wavelike, when machinery and equipment is needed for a very short period, and it is very difficult to build plants for them. It will take 3–4 years, and then what these plants will produce? It is not clear. On the other hand, the service sector is provided with work for the lifetime of the entire project – 40 to 50 years.” At the same time, Mr. Sauranbayev noticed that Kazakhstan should define its niche in terms of the international division of labour and not to try to manufacture the products that have never been made in the Republic, but produced in another country and have worldwide recognition.
“Today, oil and gas companies give us an account of around 20 thousand commodity items and we “nightmarize” them on each item, although physically we can produce roughly 300–500 items. We could agree, for example, not to require that the pump (which is made in another country for all over the world) corresponds to the local content. But what our producers can do is “cut and put”, this is out of the question”. In this context, the State together with the subsoil users have to form a range of works, goods and services for which the companies “must be responsible, that is, those which we now and will produce in the future”. Moreover, it is necessary to review this list regularly, making “upgrade” with its step by step growth.
The Ministry of Industry and New Technologies will submit its proposals on this model of relation with subsoil users at the next meeting of the Foreign Investors Council, which will be dedicated exactly to the local content issues.
Almas Kudaybergen, Chairman of the Kazakhstan’s Service Companies Union, of course, agreed with the opinion of Sauranbayev that it is necessary to lay emphasis in the increase of Kazakhstani content on the services sector. According to him, only in 2011, the volume of service market was about 800 billion KZT that is more than $5 billion with possibility of further continuous growth. Over the last 15 years, this market has increased by more than 1000%. “Among the 500 largest Kazakhstan’s companies 76 are service companies because 5–7 large service companies can stand near a large oil and gas company.” Speaking about the existing problems in the relationships of domestic service providers and subsoil users, he described that the latter constantly try to make Kazakhstan’s companies subcontractors, as the most common of them. “Sometimes there are tenders, where foreign companies win, and then transfer the (order - author's note) subcontract to our participants. We reach various levels with complaints and requests to verify the validity of such tenders.”
Head of the industry association also said that, in his view, there is no need to build export oriented plants in Kazakhstan. After all, even in the nearest markets our products are not particularly in demand, and it still will be necessary to fight for these markets.
“There is a great and uncovered potential in the West of Kazakhstan. We have to enter on this market, have to invite here our small and medium-sized companies. This way the companies work around the world. These are small productions that we need to create.” At the same time, according to Mr. Kudaybergen, Kazakhstan has service companies that actively operate abroad, though even in near-abroad countries, in particular, in Turkmenistan, our specialists have difficulties with getting a work visa. For which reason, he requested the Government to carry out the corresponding work with Turkmen colleagues.
Commenting on the phrase of the Head of the Service companies association about the need to invest in Western Kazakhstan, Magzum Mirzagaliev, Deputy Chairman of the Board of NC KazMunayGas JSC, said that foreign companies have already expressed their intention to invest about $375 million in the region economics. Such an agreement was concluded during the investment forum held in Aktau on 24–26 of September last year. “These agreements provide for the creation of an industrial park in Zhanaozen, enterprises for the production of various types of oil and gas equipment, as well as in the field of automated process control systems and instrumentation, construction of a plant for manufacture of premium connections for oil field tubular goods and bituminous rocks processing plant in Mangistau region.”
As for the national operator, it plans to increase its Kazakhstani content rates from 60% last year up to 63% in 2013. For reference, according to preliminary 2012 results, the total volume of purchases in the KazMunayGas Group of companies was 1.162 trillion KZT. However, it seems that KazMunayGas is one of a few oil and gas companies that can “boast” of a relatively large volume of orders placed at engineering facilities of Kazakhstan. According to the same Magzum Mirzagaliev, last year it amounted to 36 billion Tenge. However, KazMunayGas is the general customer for a number of Kazakhstani enterprises. So, JSC Munaymash has a 100% load, AZNO JSC – 94%, and Petropavlovsk Plant of Heavy Engineering JSC (PZTM) – three quarters load from KazMunayGas’ orders.
In turn, Anuarbek Dzhakiev, Deputy General Director of Tengizchevroil LLP, said that since 1999, the share of Kazakhstani content in purchases of TCO exceeded $13 billion with “positive dynamics by goods”.
He was opposed by Edward Kramer, General Director of KSP Steel LLP, producing steel seamless pipes and other products. In his speech, he said that for several years this joint venture holds back promised placing of order in his enterprise under various excuses.
He also made a stand against the myth of low quality of Kazakhstan’s products by speaking about the situation when one of the customers grossly violated the conditions and technique of mounting, undeservingly accused KSP Steel in poor-quality work. “This is an unfair attitude towards to the suppliers. Who of us can boast that he was heard on the field and his point of view was recorded in the Joint Protocol of proceedings? No One! Meanwhile, there is already formed the view that Kazakhstani content is of poor quality”, complained Mr. Kramer, and immediately offered representatives of State bodies, those who were present at the Forum, to make a list of bad-faith suppliers similar to the list of bad-faith customers. “We are accused wrongly, which we do not deserve, and we would like to get a defence mechanism.”
At the same time, Mr. Kramer asked the Ministry of Oil and Gas and the Ministry of Industry and New technologies to think over the issue of consideration of the interests of domestic producers when accessioning to the WTO. “We open our borders in accordance with Charter of the Organization, and of course, they do the same in relation to us. But where I will take my pipe – to the countries that have cheap labour? What can we do in turn? Maybe we should also bring workers from Mozambique? …Now we have a crisis: the production volume fell 5 times in terms of tonnage. Nevertheless, we did not dismiss even a single person and did not sent to unpaid leave, although the law allows us to do this. We support the social policy of the head of State, and would like this social issue to be discussed more deeply during making decisions on the WTO. Not walking though – something like, all compete on an equal footing... Now China pays protective duties to the United States and Canada. In fact, the Chinese manufacturers are also removed from Europe, that is all “veterans” of the WTO protect their market. While in Kazakhstan we are now accustomed to the idea that we will need to compete fairly”, concluded the Director of KSP Steel LLP.
The summary of consideration of outstanding problematic issues was actually done by Aset Magauov, General Director of the KAZENERGY Association which outlined the ways of their solution. In his opinion, first of all, it is necessary to provide harmonization of requirements to Kazakhstan's contractors, that they “do not pass qualification for all major projects by turn”, so that there will be one standardized procedure, general criteria and requirements to suppliers that would be recognized by all subsoil users. Secondly, to ensure availability and integrity of the information related to the long-term demand for goods and services, in order to allow Kazakhstan’s suppliers and contractors to prepare. Thirdly, to perform a harmonization of tender procedures, to end that the rules of the game were equal for all subsoil users.
In addition, Mr. Magauov asked representatives of governmental authorities to centralize systems of management and monitoring of the Kazakhstani content, since many working groups were organized there – at the Foreign Investors Council, the Government, and the ministries. “We would like these groups to have clear and well-defined goals, objectives, and functions, and, if possible, they should be optimized, so that there will be really several groups responsible for the Kazakhstani content of the ministries, to make clear what each of them is responsible for.” He also stressed that Kazakhstani content is not just a question of performance of contractual obligations, but also of the social responsibility of business, that is why the approaches should be reconsidered here. “Certainly, there may be some conflicts of interest between projects and suppliers on schedule, duration, and cost, but I think these issues can be taken into account in a timely manner and neutralize the negative consequences”, concluded representative of KAZENERGY.
